Case Studies Show Fraud and Abuse Allowed Ineligible Firms to Obtain Millions of Dollars in...

8/9/2019 Case Studies Show Fraud and Abuse Allowed Ineligible Firms to Obtain Millions of Dollars in Contracts

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What GAO Found

United States Government Accountability Of

Why GAO Did This Study

HighlightsAccountability Integrity Reliability

December 16, 2009

SERVICE-DISABLED VETERAN-OWNED SMALBUSINESS PROGRAM

Case StudiesShow Fraud and Abuse AllowedIneligible Firms to Obtain Millions of Dollars inContracts

Highlights of GAO-10-306T, a testimonybefore the Subcommittee on Oversightand Investigations, Committee onVeterans Affairs, House of

Representatives

T

The Service-Disabled Veteran-Owned Small Business (SDVOSB)

program is intended to providefederal contracting opportunities toqualified firms. In fiscal year 2008,the Small Business Administration(SBA) reported $6.5 billion ingovernmentwide sole-source, set-aside, and otherSDVOSB contractawards. Given the amount offederal contract dollars beingawarded to SDVOSB firms, GAOwas asked to determine(1) whether cases of fraud andabuse exist within the SDVOSB

program and (2) whether theprogram has effective fraudprevention controls in place.

To identify whether cases exist,GAO reviewed SDVOSB contractawards and protests since 2003 andcomplaints sent to GAOs fraudhotline. GAO defined case-studyfirms as one or more affiliatedfirms that were awarded one ormore SDVOSB contracts. To assessfraud prevention controls, GAOreviewed laws and regulations andconducted interviews with SBA andDepartment of Veterans Affairs(VA) officials. GAO did not attemptto project the extent of fraud andabuse in the program. In addition,GAO did not attempt to assess theoverall effectiveness of VAs

validation process to prevent or

address fraud and abuse in VASDVOSB contracts.

GAO found that the SDVOSB program is vulnerable to fraud and abuse, whiccould result in legitimate service-disabled veterans firms losing contracts toineligible firms. The 10 case-study firms that GAO investigatedreceivedapproximately $100 million in SDVOSB sole-source and set-aside contractsthrough fraud, abuse of the program, or both. For example, contracts forHurricane Katrina trailer maintenance were awarded to a firm whose ownerwas not a service-disabled veteran. GAO also found that SDVOSB companiewere used as pass-throughs for large, sometimes multinational corporationsIn another case a full-time federal contract employee at MacDill Air Force

Base set up a SDVOSB company that passed a $900,000 furniture contract onto a company where his wife worked, which passed the work to a furnituremanufacturer that actually delivered and installed the furniture. The tablebelow provides details on 3 of the 10 cases, all of which included fraud andabuse related to VA sole source or set aside SDVOSB contracts.

Details of Three Ineligible SDVOSB Cases

Industry Awardagencies NotesConstruction,maintenance,and repair

$39.4 millionVA SBA determined the firm was ineligible because a noservice-disabled veteran manages daily operations.Service-disabled veteran owned and managed arestaurant in another city 80 miles away when thecontract was awarded.Despite being ineligible, VA allowed the firm to continmultiple SDVOSB contracts.

Constructionand janitorialservices

$5 millionVA, U.S.Fish and WildlifeService, AgriculturalResearch Service, andU.S. Forest Service

Firm is ineligible because it subcontracts 100 percentthe work to non-SDVOSB firms.Our investigation found that the SDVOSB firm utilizesemployees from a large non-SDVOSB foreign-basedcorporation, which reported almost $12 billion in annurevenue in 2008, to perform contracts.Firm is currently listed in VA database of verifiedSDVOSB firms.

Construction,maintenance,and medicalequipment

$8.1 millionVA Firm is ineligible because the service-disabled veteraowner is a full time New Jersey state employee anddoes not manage day-to-day operations.Our investigation found that the firms 49 percent nonservice-disabled veteran owner owns five additionalconstruction firms at the same address as the SDVOSfirm receiving contracts.

Source: GAO analysis of FPDS-NG, ORCA, CCR, and contractor data and interviews.

GAO found that the government does not have effective fraud preventioncontrols in place for the SDVOSB program. However, in response to theVeterans Benefits, Health Care, and Information Technology Act of 2006, VAdeveloping a certification processes for SDVOSB firms, but currently thecertification will only be used for contracting by VA. VA officials stated thatthe certification process could include reviews of documents, validation of towners service-disabled veteran status, and potential site visits to SDVOSBfirms. To be effective, VAs processes will need to include preventive controdetection and monitoring of validated firms, and investigations andprosecutions of those found to be abusing the program. In a report GAOissued in October 2009, GAO suggested Congress consider providing VA witadditional authority necessary to expand its SDVOSB verification processgovernmentwide.

View GAO-10-306T or key components.For more information, contact Gregory Kutz at(202) 512-6722 or [email protected].
http://www.gao.gov/cgi-bin/getrpt?GAO-10-306Thttp://www.gao.gov/cgi-bin/getrpt?GAO-10-306Thttp://www.gao.gov/products/GAO-10-108http://www.gao.gov/products/GAO-10-108http://www.gao.gov/cgi-bin/getrpt?GAO-10-306Thttp://www.gao.gov/products/GAO-10-108


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Page 1 GAO-10-306T

Mr. Chairman and Members of the Subcommittee:

The Small Business Administration (SBA), which, along with federalprocuring agencies, administers the Service-Disabled Veteran-OwnedSmall Business (SDVOSB) program, reported in fiscal year 2008 that $6.5billion1 in federal contracts were awarded to firms that self-certifiedthemselves as SDVOSBs. Government contracts to SDVOSBs accountedfor only 1.5 percent of all government contract dollars paid in fiscal year2008. Since the SDVOSB program began, the government has not met itsannual mandated goal of 3 percent.2 However, in fiscal year 2008 theDepartment of Veterans Affairs (VA) SDVOSB contracts accounted for

$1.7 billion, or 12 percent, of all VA small business eligible contractingdollars. In addition to SBAs statutory authority over administration of theSDVOSB program, several other government agencies have separateauthority over issues related to the SDVOSB program. The VeteransBenefits, Health Care, and Information Technology Act3 requires VA,among other things, to maintain a database of SDVOSBs and Veteran-Owned Small Businesses (VOSB) so contractor eligibility can be verifiedon VA SDVOSB and VOSB contracts. In addition, the Office of FederalProcurement Policy (OFPP), within the Office of Management and Budget,provides overall direction for governmentwide procurement policies,regulations, and procedures to promote economy, efficiency, andeffectiveness in the acquisition processes. The offices primary focus is onthe Federal Acquisition Regulation (FAR), the governmentwide regulationgoverning agency acquisitions of goods and services, including SDVOSBset-aside and sole-source contract actions.

My statement summarizes our report issued in October 2009.4 Thistestimony discusses (1) whether cases of fraud and abuse exist within theSDVOSB program and (2) whether the program has effective fraudprevention controls in place.

1

SBA calculates its SDVOSB total by including all dollars awarded to SDVOSBs, not justthose received through set-aside or sole-source contracts.

2SBAs Small Business Procurement Scorecards report the annual percentage share of

SDVOSB awards.

3Veterans Benefits, Heath Care, and Information Technology Act of 2006, Pub. L. No. 109-461, 120 Stat. 3433 (2006).

4GAO,Service-Disabled Veteran-Owned Small Business Program: Case Studies Show

Fraud and Abuse Allowed Ineligible Firms to Obtain Millions of Dollars in Contracts,GAO-10-108 (Washington, D.C.: Oct. 23, 2009).
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To identify examples of firms that received SDVOSB contracts throughfraudulent or abusive eligibility misrepresentations, we reviewed SDVOSBcontract awards and protests filed with SBA since the programs inceptionin 2003. We also reviewed allegations of fraud and abuse sent to our fraudhotline, FraudNET. In addition, we posted inquiries on our Web page andon several veteran advocacy group Web pages and in newsletters seekinginformation on fraud or abuse of the SDVOSB program. We received over100 allegations of fraud and abuse in the SDVOSB program. From thesesources, we selected 10 cases for further investigation based on a varietyof factors, including facts and evidence provided in protests andallegations, whether a firm received multiple SDVOSB contracts, and

whether a firm received other non-SDVOSB contracts. To investigate thesecase studies, we interviewed firm owners and managers and reviewedrelevant documentation, such as business filings and tax returns, todetermine if SDVOSB eligibility requirements had been met. We alsoanalyzed data from the Federal Procurement Data SystemNextGeneration (FPDS-NG) for 2003 through 20095 to identify SDVOSBcontracts received by the firms since the programs inception.Furthermore, we reviewed certifications made by firms, such ascertifications about a firms size, SDVOSB status, and line of business, inthe federal governments Online Representations and CertificationsApplication (ORCA).6 To determine whether the program has effectivefraud prevention controls in place, we reviewed relevant laws andregulations governing the SDVOSB program. We also interviewed agencyofficials about their responsibility for the program and controls currentlyin place to prevent or detect fraud and abuse. We did not attempt toproject the extent of fraud and abuse in the program. In addition, we didnot attempt to assess the overall effectiveness of VAs validation processto prevent or address fraud and abuse in VA SDVOSB contracts. Additional

5

FPDS-NG is the central repository for capturing information on federal procurementactions. Dollar amounts reported by federal agencies to FPDS-NG represent the netamounts of funds obligated and deobligated as a result of procurement actions. Becausewe did not obtain disbursement data, we were unable to identify the actual amountsreceived by firms.

6ORCA was established as part of the Business Partner Network, an element of the

Integrated Acquisition Environment, which was implemented by the Office of Managementand Budgets OFPP and the Chief Acquisition Officers Council. ORCA is the primarygovernment repository for contractor-submitted representations and certifications requiredfor conducting business with the government.

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details on our scope and methodology can be found in our report issued inOctober 2009.7

We conducted our audit work and investigation from October 2008through December 2009 in accordance with U.S. generally acceptedgovernment auditing standards. Those standards require that we plan andperform the audit to obtain sufficient, appropriate evidence to provide areasonable basis for our findings and conclusions based on our auditobjectives. We believe that the evidence obtained provides a reasonablebasis for our findings and conclusions based on our objectives. Weperformed our investigative work in accordance with the standards

prescribed by the Council of the Inspectors General on Integrity andEfficiency.

Fraud and abuse in the SDVOSB program allowed ineligible firms toimproperly receive millions of dollars in set-aside and sole-sourceSDVOSB contracts, potentially denying legitimate service-disabledveterans and their firms the benefits of this program. We identified 10case-study examples of firms that did not meet SDVOSB programeligibility requirements but received approximately $100 million inSDVOSB contracts, and over $300 million in additional 8(a), HUBZone, andnon-SDVOSB federal government contracts. Six of these 10 case studieswere awarded one or more sole-source or set-aside SDVOSB contracts byVA. For example, 1 firm was awarded a $3.5 million contract by VA forjanitorial services at a VA hospital, but subcontracted 100 percent of thework to an international firm. SBA found 4 of the 10 firms, including 2firms that were awarded VA contracts, ineligible for the SDVOSB programthrough the agencys bid protest process.8 Nevertheless, because there areno requirements to terminate contracts when firms are found ineligible,several contracting agencies allowed the ineligible firms to continue theirwork. In addition to the 4 firms SBA found to be ineligible, we identified 6other case-study firms that were not eligible for the SDVOSB program. Themisrepresentations case-study firms made included a firm whose owner

was not a service-disabled veteran, a serviced-disabled veteran who didnot control the firms day-to-day operations, a service-disabled veteranwho was a full-time federal contract employee at MacDill Air Force Base,and firms that served as pass-throughs for large and sometimes foreign-

Ineligible FirmsObtain Millions ofDollars in SDVOSBContracts

7GAO-10-108.

815 U.S.C. 631 et seq., 13 C.F.R. Parts 125 and 134.

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based corporations. In the case of a pass-through, a firm or joint venturelists a service-disabled veteran as the majority owner, but contrary toprogram requirements, all work is performed and managed by a non-service-disabled person or a separate firm.

Federal regulations set requirements for a small business to qualify as anSDVOSB. Specifically, SDVOSB eligibility regulations mandate that a firmmust be a small business9 and at least 5110 percent owned by one or moreservice-disabled veterans11 who control the management12 and dailybusiness operations of the firm. In addition, SDVOSB regulations alsoplace restrictions on the amount of work that can be subcontracted.

Specifically, regulations require the SDVOSB to incur a mandatorypercentage of the cost of the contract performance that can range from 15percent to 50 percent, depending on the type of goods or services. TheFAR requires each prospective contractor to update ORCA to statewhether the firm qualifies as an SDVOSB under specific North AmericanIndustry Classification System codes. Pursuant to 15 U.S.C. 657 f(d),firms that knowingly make false statements or misrepresentations incertifying SDVOSB status are subject to penalties. Of the 10 cases weidentify, all 10 of them represented to be SDVOSBs in the CentralContractor Registration (CCR).13 Table 1 provides details on our 10 case-study firms that fraudulently or abusively misrepresented material factsrelated to their eligibility for the SDVOSB program. We have referred all 10firms to appropriate agencies for further investigation and considerationfor removal from the program.

9The criteria for a small business are defined in 13 C.F.R. Part 121.

10For any publicly owned business, not less than 51 percent of the stock must be owned by

one or more service-disabled veterans.

11The term veteran means a person who served in the active military, naval, or air service,

and who was discharged or released there from under conditions other than dishonorable.38 U.S.C. 101(2). Service-disabled means, with respect to disability, that such disabilitywas incurred or aggravated in line of duty in the active military, naval, or air service.

12In the case of a veteran with permanent and severe disability, the spouse or permanent

caregiver of such veteran may control the business.

13CCR is the primary contractor registrant database for the U.S. federal government. CCR

collects, validates, stores, and disseminates data in support of agency acquisition missions.

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Table 1: Case-Study Firm Details

Case Industry and location

SDVOSB contracts for years2003-2009,

band awarding

agencies Case details

1 Maintenance/repairNorth Las Vegas, Nev.

$7.5 millionFederalEmergency ManagementAgency (FEMA)

Firm is ineligible because majority owner isnot a service-disabled veteran.

Firms ineligibility was determined by SBAduring a bid protest in June 2007.

After the SBA protest, in July of 2007 FEMAsent the firm a letter providing itapproximately 30 days to vacate SDVOSB

contract awards. Company continues to receive tens of

millions in non-SDVOSB contracts.

SBA determined that the firm was ineligible;however, the firm has not been suspended ordebarred from receiving federal contracts.

2 Construction and janitorial servicesChico, Calif.

$5 millionVA, U.S. Fish andWildlife Service, AgriculturalResearch Service, and U.S.Forest Service

Firm is ineligible because it does not performany work and subcontracts 100 percent of thework to non-SDVOSB firms.

Our investigation found that the firm employsthree full-time workers and performsSDVOSB contract work with employees froma large international-based corporation thatreported almost $12 billion in annual revenuein 2008.

Firm received over 20 SDVOSB contractssince 2008.

Firm is currently listed in VAs database ofverified SDVSOB firms.

3 Construction/maintenance/repairCarnegie, Pa.

$39.4 millionVA Firm is ineligible because a non-service-disabled veteran manages and controls thefirms daily operations.

Firms ineligibility was determined by SBAduring a bid protest.

Despite the firms being determined ineligible,VA allowed the firm to continue multipleSDVOSB contracts because there are norequirements for agencies to terminate

contracts awarded to ineligible firms. A non-SDVOSB construction company,

located at the same address, manages andperforms the SDVOSB contract work.

Service-disabled veteran owned andmanaged a restaurant in another city over 80miles away when the contract was awarded.


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band awarding


4 Construction/environmental/defensetechnology/maintenanceSan Diego, Calif.

$12.2 millionEnvironmentalProtection Agency and FEMA

Firm is ineligible because it is not a smallbusiness.

Our investigation determined that federalagencies have obligated approximately $171million for payment to the firm during fiscalyears 2003 to 2009 exceeding SBA sizestandards for average annual receipts.

Firm is also ineligible because it has formedat least five SDVOSB joint ventures violatingSBA joint-venture rules.

Firm uses the employees from the large firmin the joint ventures to perform the SDVOSBcontract work.

5 Septic tank and related services/facilitiessupport services/rental and leasingservicesAustin, Tex.

$200,000U.S. Army Firm and its SDVOSB joint ventures areineligible for the program because a non-SDVOSB firm performs the work.

Firm and first joint venture were determinedineligible during an SBA bid protest.

After the SBA determination, the non-SDVOSB firm used another SDVOSB jointventure to continue to receive SDVOSBcontracts.

Over $5 million in federal contracts has beenobligated to the firm and its SDVOSB joint

ventures since SBA ruled the firm and its firstSDVOSB joint venture ineligible for theprogram.

Service-disabled veteran used to qualify forcurrent contracts lives over 1,800 miles fromcontract performance location.


6 Construction/maintenance/repair/medicaland surgical equipmentBurlington, N.J.

$8.1 millionVA Firm is ineligible because the service-disabled veteran owner is a full-time NewJersey state employee and does not managethe firms day-to-day operations.

Our investigation also found that the firms 49percent owner, who is not a service-disabledveteran, owns five additional non-SDVOSBconstruction firms at the same address as theSDVOSB firm receiving contracts.

SBA bid protest initially determined that theSDVOSB firm was ineligible because theservice-disabled veteran did not own at least51 percent of the firm. SBA later reversed itsdecision when the firm submitted revisedpaperwork.

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band awarding


9 Construction/ maintenance/repairLuthersville, Ga.

$2.8 millionVA, U.S. CoastGuard, Department ofAgriculture, and U.S. Army

Firm is ineligible because a non-service-disabled veteran manages and controls thefirms day-to-day operations and because theSDVOSB firm is a pass-through for a non-SDVOSB firm.

Firm was determined ineligible through anSBA bid protest.

Through interviews and our review ofdocuments submitted by the firm, we foundthat the SDVOSB firm only has four

employees and the owner of a non-SDVOSBfirm is responsible for day-to-day operationsof SDVOSB contracts.

The SDVOSB firm submitted 10 joint-venturebids within a 5-month period, violating federalregulations.

After being found ineligible by SBA, the firmcontinued to receive approximately $1.8million in new SDVOSB contracts.


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developed to validate eligibility for awarding VA contracts only. However,currently the VA validation program is not fully implemented.

A well-designed fraud prevention system should consist of three crucialelements: (1) up-front preventive controls, (2) detection and monitoring,and (3) investigations and prosecutions. For the SDVOSB program thiswould mean (1) front-end controls over program eligibility prior tocontract award, (2) fraud detection and monitoring of firms alreadyreceiving SDVOSB contracts, and (3) the aggressive pursuit andprosecution of individuals committing fraud, including suspension anddebarment and, if appropriate, termination of the contract. In addition,

agency officials should also use lessons learned from detection andmonitoring controls and investigations and prosecutions to design moreeffective preventive controls.

VAs proposed validation program is encouraging in that it attempts toaddress at least the first of the three essential elements of a fraudprevention framework. The Veterans Benefits, Health Care, andInformation Technology Act14which took effect in June 2007requiresVA, among other things, to maintain a database of SDVOSBs and VOSBs sothat contractor eligibility can be verified. It also requires VA to determinewhether SDVOSBs and VOSBs are indeed owned and controlled byveterans or service-disabled veterans in order to bid on and receive VAcontracts. Lastly, it requires that VA set-aside and sole-source awards bemade only to firms that have had their eligibility verified. At the time theact took effect, VA already maintained an online database, VetBiz VendorInformation Pages, referred to as VAs VetBiz database, in which nearly16,500 firms had self-certified as SDVOSBs or VOSBs. While not yet fullyimplemented,15 VAs planned validation program includes steps to verify afirms eligibility for the program, including validating the service-disabledstatus claimed by an owner and his/her control of day-to-day operations.The VA program also includes plans for document reviews and site visitsto firms seeking VA certification as SDVOSBs or VOSBs. Requiringsubmission of documents to demonstrate ownership and control of an

SDVOSB has some value as a deterrentownership documents could haveprevented instances demonstrated in our case studies where the service-

14Veterans Benefits, Health Care, and Information Act of 2006, Pub. L. No. 109-461, 120 Stat.

3433 (2006).

15See GAO,Department of Veterans Affairs Contracting with Veteran-Owned Small

Businesses, GAO-09-391R (Washington, D.C.: Mar. 19, 2009).

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disabled veteran was receiving less than 51 percent of the profits. Themost effective preventive controls involve the verification of information,such as verifying service-disabled status with VAs database and service-disabled veteran participation in the business through an unannouncedsite visit. Verification of service-disabled veteran status through VAsdatabase could have prevented the most egregious example of fraudwhere the owner was not even a service-disabled veteran. Although VAsproposed system was not intended for governmentwide use, once thecertification system is in place, all SDVOSBs wishing to do business withVA will eventually have to be certified.

Although preventive controls are the most effective way to minimize fraudand abuse, to be effective, VAs process will need to include the remainingtwo elements of the fraud prevention model. The second element,monitoring and detection, involves actions such as data mining forfraudulent and suspicious applicants and evaluation of firms bycontracting officers and program officials to provide reasonable assurancethat contractors continue to meet program requirements. The finalelement of an effective fraud prevention system is the aggressiveinvestigation and prosecution of individuals who commit fraud against thefederal government. In a report we issued in October 2009, we suggestedthat Congress consider providing VA with the additional authoritynecessary to expand its SDVOSB eligibility verification process to allcontractors seeking to bid on SDVOSB contracts government wide. Inaddition, we recommended that the Administrator of SBA and theSecretary of Veterans Affairs coordinate with OFPP to explore thefeasibility of requiring that all contractors that knowingly misrepresenttheir status as an SDVOSB be debarred for a reasonable period of time.

VA generally agreed with our two recommendations. In its response, VAexpressed that specific authority would be required for other agencies tobe able to rely on the departments VetBiz database and exclude firmsfrom acquisitions if not verified in this database. SBAs response,provided by the Associate Administrator for Government Contracting and

Business Development, generally agreed with our recommendations;however, in its general observations and specific responses to ourrecommendations, SBA stated that it has limited responsibility for theSDVOSB program and questioned the efficacy of one of ourrecommendations. Specifically, SBA stated that agency contractingofficers bear the primary responsibility for ensuring that only eligibleSDVOSB firms perform SDVOSB set-aside and sole-source contracts. SBAalso stated that it is only authorized to perform eligibility reviews in a bidprotest situation, and contracting officers, not SBA, are responsible for

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taking appropriate action after a bid protest decision is made. TheAssociate Administrator maintained that SBA was under no legalobligation to create a protest process for the SDVOSB program, and thatits only statutory obligation is to report on other agencies success inmeeting SDVOSB contracting goals. In addition, SBA expressed that it wasnot obligated to institute any type of fraud prevention controls within theSDVOSB program.

Mr. Chairman, this concludes my statement. I would be pleased to answerany questions that you or other Members of the Subcommittee may have atthis time.

For additional information about this testimony, please contact Gregory D.Kutz at (202) 512-6722 or [email protected]. Contact points for our Offices ofCongressional Relations and Public Affairs may be found on the last pageof this statement. Jonathan Meyer, Assistant Director; Gary Bianchi; BruceCausseaux; Randy Cole; Victoria De Leon; Beth Faraguna; Ken Hill; JohnLedford; Deanna Lee; Barbara Lewis; Vicki McClure; Andrew OConnell;George Ogilvie; Gloria Proa; Barry Shillito; and Abby Volk made keycontributions to this testimony.

Contacts andAcknowledgments

(192341)Page 12 GAO-10-306T
mailto:[email protected]:[email protected]


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